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Punitive damages and Ontario’s new secondary market liability regime

The Ontario Superior Court of Justice recently considered whether punitive damages against officers and directors were available under Ontario’s new secondary market liability regime. The answer according to Justice Perell in Frank v. Farlie, Turner & Co., LLC, 2012 ONSC 5519 (Farlie) is an unequivocal no.

In Farlie, a class action proceeding was commenced against various officers and directors of Protective Products of America, Inc. (the Company), a TSX-listed manufacturer of tactical body armour used to protect police officers and military personnel. The plaintiff’s claim asserted a cause of action under Part XXIII.1 of the Ontario Securities Act (the Act), which establishes a civil liability regime for secondary market disclosure.

The plaintiff’s claim was commenced in response to the Company’s alleged failure to disclose that it was awarded a contract by the U.S. Army for an as-then-undetermined amount of body armour. According to the plaintiff, the failure to disclose this “good news” about the U.S. Army contract kept the value of the stock artificially depressed to the detriment of investors. The plaintiff sought punitive damages in the amount of $20 million against the officers and directors of the Company. The defendants brought a motion to strike the punitive damages claim.

Prior to Farlie, the Ontario courts had consistently held that punitive damages claims were appropriate common issues for the purposes of certification in class action suits that brought claims under Part XXIII.1 of the Act. However, these were all procedural findings as they were made in certification motions. Farlie, on the other hand,is the first substantive decision to directly consider the question of whether punitive damages can be ordered under Part XXIII.1.

In coming to his decision, Justice Perell looked at the scope of the meaning of the word “damages” in Part XXIIII.1 and found that “damages” only referred to compensatory damages. Justice Perell then considered the legislative scheme and the harm the legislature sought to address when it created a statutory cause of action for misrepresentation. In particular, he considered the balance that legislators struck between not requiring proof of reliance in the imposition of damages and putting in place liability caps to protect officers and directors from potentially unlimited liability. In Justice Perell’s view, allowing punitive damages would allow plaintiffs to circumvent these liability caps and undermine the legislative scheme.

Ultimately, Justice Perell concluded that while punitive damages were not expressly prohibited by the Act, they were “inconsistent with the scheme” of Part XXIII.1 of the Act, which Perell J. explained sought to balance (i) the interests of compensating shareholders for contravention of the Act by officers and directors; and (ii) concerns that increased exposure to liability would discourage persons from becoming officers and directors.

Farlie is welcome news for officers and directors who find themselves on the front lines of a recent wave of class action suits brought under the new secondary market liability regime in Ontario. Justice Perell reaffirmed the importance of protecting officers and directors from unlimited liability. For those officers and directors already subject to punitive damages claims in a statutory misrepresentation claim, a motion to strike that portion of the claim will no doubt be the first order of business. Until the Court of Appeal weighs in on the issue, it appears punitive damages against officers and directors will not be a part of the secondary market liability regime in Ontario.

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